Wednesday, November 5, 2014

Less Use of Financial Advisors Due to Distrust: Exploring Potential Solutions

If American consumers believed that they could trust their financial advisors, demand for the services of financial advisors would soar.As long as American consumers cannot discern between ethical actors (who adhere to a bona fide fiduciary standard at all times, without disclaimers of core fiduciary duties, and keeping the clients' best interests first even when unavoided conflicts of interest are present and disclosed) and actors bound only by the weak suitability standard, the demand for financial planning and investment advice will stagnate. Consumers will often choose to "go it alone" - as many have.We have a problem in America.

The world is far more complex for individual investors today than it was just a generation ago. There exist a broader variety of investment products, including many types of pooled and/or hybrid products, employing a broad range of strategies.

This explosion of financial products has hampered the ability of plan sponsors and individual investors to sort through the many thousands of investment products to find those very few which best fit within the retirement plan or individual investor’s portfolios. Furthermore, as such investment vehicles have proliferated, plan sponsors and individual investors are challenged to discern an investment product’s true “total fees and costs,” investment characteristics, tax consequences, and risks. Simply put, retirement plan sponsors and their participants are at a vast disadvantage.

Information Asymmetry is Vast and will Never Disappear.

Disparities in the availability of information, or its quality, or its understanding, lead to advantages by those endowed with the ability to decipher, discern and apply the information correctly. It must be recognized that efforts to enhance financial literacy, while always worthwhile and important, will never transform the ordinary American into a wholly knowledgeable consumer of financial products and services, just as we cannot expect the average American to perform brain surgery.

Given the sophisticated nature of modern financial markets and complex array of investment products, it is not just the uneducated that are placed at a substantial disadvantage – it is nearly all Americans. Hence, other means are necessary to negate advantages brought on by information asymmetry.

If Disclosures Alone were Sufficient, There Would be no Need for the Fiduciary Standard of Conduct.

Substantial academic research has revealed that disclosure is not effective as a means of dealing with the vast information asymmetry present in the world of financial services. Indeed, as the sophistication of our capital markets had increased, so has the knowledge gap between individual consumers and financial advisors.

Additionally, academic research now reveals that disclosures, while important, can lead to perverse results – i.e., worse advice is provided if the advisor, following disclosure, feels unconstrained by the application of the fiduciary standard of conduct.

The Need to Embrace Fiduciary Principles for Certain Actors.

Because of the vast information asymmetry, and due to the many behavioral biases consumers possess which deter them from effectively spending the time and effort to read and understand mandated disclosures, there exists a great need for financial and investment advice. In such situations, our fellow citizens place trust and confidence in their personal financial advisor. It is right and just in such circumstances that broad fiduciary duties be applied to these financial intermediaries.

The absence of appropriate high ethical standards for all providers of personal financial advice, whether to plan sponsors, plan participants, IRA account owners, or others, is a glaring current gap in the financial services regulatory structure.

The Need to Ensure Distinctions between the Types of Financial Intermediaries.

Individual consumers should be empowered to more easily identify the difference between the financial advice role (to which fiduciary status should attach) and the product marketing role (an arms-length relationship, to which only far lesser obligations, such as ensuring suitability, apply). Currently these roles are closely intertwined, and it is exceedingly difficult for consumers to distinguish between them (in part because the product marketer type of intermediary possesses no incentive to make that distinction clear).

Our regulators possess the authority and the ability to ensure that consumers are not misled by the use of titles and designations, and they should ensure that all those who hold themselves out as trusted advisors – or who actually provide advisory services – are bound to act in the interests of their clients under the fiduciary standard of conduct. But, our regulators do not appear to have the backbone to prevent ongoing fraud from occurring. As a result, most consumers who possess "financial consultants" (or advisors with similar titles) believe that their advisor is bound to act in their best interests; sadly, in most instances the advisor is not bound by a fiduciary standard, but is only governed by the suitability standard (designed to protect the advisor, not the consumer).

Investor Distrust = Less Capital Formation & Less U.S. Economic Growth.
The siphoning of profits by Wall Street, away from the hands of individual investors, has led to a high level of individual investor distrust in our system of financial services and in our capital markets. In fact, many individual investors, upset after finally discovering the high intermediation costs present, flee the capital markets altogether. (Many more would flee if they discovered all of the fees and costs they were paying, and realized the substantial effect such had on the growth or preservations of their nest eggs.) The effects of greed in the financial services industry can be profound and extremely harmful to America and its citizens. Participation in the capital markets fails when consumers deal with financial intermediaries who cannot be trusted.

As a result of the growth of investor distrust in financial intermediaries, the capital markets are further deprived of the capital that fuels American business and economic expansion, and the cost of capital rises yet again. Indeed, as high levels of distrust of financial services continue, the long-term viability of adequate capital formation within the United States is threatened, leading to greater reliance on infusions of capital from abroad. In essence, by not investing ourselves in our own economy, we are selling our bonds, corporate and other assets to investors abroad.

It is well documented that public trust is positively correlated with economic growth. Moreover, public trust is also correlated with participation by individual investors in the stock market. This is especially true for individual investors with low financial capabilities – those who in our society are in most need of financial advice; policies that affect trust in financial advice seem to be particularly effective for these investors.

The lack of trust in our financial system has potential long-range and severe adverse consequences for our capital markets and our economy. As stated by Prof. Ronald J. Columbo in a recent law review article: “Trust is a critical, if not the critical, ingredient to the success of the capital markets (and of the free market economy in general). As Alan Greenspan once remarked: ‘[O]ur market system depends critically on trust - trust in the word of our colleagues and trust in the word of those with whom we do business.’ From the inception of federal securities legislation in the 1930s, to the Sarbanes-Oxley Act of 2002, to the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010, it has long been understood that in the face of economic calamity, the restoration and/or preservation of trust – especially investor trust – is paramount in our financial institutions and markets.”

There is no doubt that “[t]rust is a critically important ingredient in the recipes for a successful economy and a well-functioning financial services industry. Due to scandals ranging in nature from massive incompetence to massive irresponsibility to massive fraud; investor trust is in shorter supply today than just a couple of years ago. This is troubling, and commentators, policymakers, and industry leaders have all recognized the need for trust's restoration …."

Less Trust = Less Use of Financial Advisors

The issue of investor trust in financial intermediaries does not just concern asset managers and Wall Street’s broker-dealer firms; it affects all investment advisers and financial advisors to individual clients. As Tamar Frankel, a leading scholar on U.S. fiduciary law, once observed: “I doubt whether investors will commit their valuable attention and time to judge the difference between honest and dishonest … financial intermediaries. I doubt whether investors will rely on advisors to make the distinction, once investors lose their trust in the market intermediaries. From the investor’s point of view, it is more efficient to withdraw their savings from the market.”

In an Oct. 30, 2014 article by Donald Liebenson, "Why Don't Self-Directed Investors Use a Financial Advisor?" - appearing in Spectrum's Millionaire's Corner online publication, "[t]he primary reason for 36 percent of non-Millionaires who elect to go solo regarding their wealth management and financial planning is that they do not believe that a financial advisor would be looking out for their best interests."

Personally, I have seen this time and again. Once burned (or, in some instances, burned several times) by non-fiduciary "financial consultants" and "wealth managers," the consumer turns to self-directed advice. And, too often, consumers who are burned by their "financial advisors" often turn instead to bank depository accounts, thereby avoiding investments in the capital markets (which, by limiting supply of capital, increases the cost of capital to companies).

What Now? Regulatory Solutions?
We can hope that the White House will permit the U.S. Department of Labor (specifically, the Assistant Secretary of EBSA, Phyllis Borzi, and her team) proceed to re-issue the "definition of fiduciary" rule, which would logically apply fiduciary rules to advisors to plan sponsors (who are themselves fiduciaries, and hence should rarely if ever rely upon non-fiduciaries for advice). Given the importance of retirement security for our fellow Americans, the extension of ERISA's sole interests standard to IRA accounts is part of the proposal. Yet, tens of millions of dollars (if not more) are being spent each and every year and hundreds of lobbyists (working on behalf of large Wall Street firms and insurance companies) seek to prevent this rule from seeing the light of day, or alternatively to delay the issuance of the proposed rule. I've been waiting since early 2013 for the DOL's proposal to be released; let's hope an early 2015 release will occur.

We can also hope that the SEC will act, using its authority, to extend the Investment Adviser Act's fiduciary standard (as modified to a degree by Dodd-Frank) to all providers of personalized investment advice, however registered. Yet, the SEC has delayed the process of engaging in rule-making by ordering up another economic analysis. And, given the intense pressure exerted by Congress on the SEC, Chair Mary Jo White may desire to focus on other issues the SEC is required to act upon, pursuant to Dodd Frank. Additionally, as a result of actions taken over the past three decades, the SEC has already gutted the fiduciary standard - by permitting waivers of core fiduciary obligations (and hence permitting double-dipping and similar abuses), and by permitting an easy removal of the fiduciary hat (and, in essence, hat-switching back and forth). Even if the SEC acts, it is unlikely that the SEC's fiduciary standard will be a strong one; the SEC's fiduciary standard will likely continue to be weakened by "particular exceptions" (as the late Justice Benjamin Cardoza warned against).

We can hope that the various state securities administrators step up to the table and adopt new model statutues and/or rules setting forth a bona fide fiduciary standard. But, given the continued preemption of state authority by Congress, they may be fearful of the backlast which would likely ensue from Congress (which is substantially influenced by Wall Street's lobbyists).

The Private Marketplace Solution ... Who Has It?
While continuing to advocate before federal and state policymakers on the fiduciary standard remains important, I believe it is time to also search out and embrace a marketplace solution.

It is important, however, for this marketplace solution to embrace a bona fide fiduciary standard - with principles that are broad and all-encompassing, yet with subsidiary principles (or rules) which illuminate upon the broad principles and leave little or no avenues for those who seek to circumvent the rules by creative "interpretations" of the broad principles.

What is a bona fide fiduciary standard? As stated above - it is not just disclosure of a conflict of interest, when a conflict of interest exists. Rather, it proper management of that conflict of interest. Of course, fiduciary duties also involve a strong professional duty of care.

Where can we find a bona fide fiduciary standard? We can start with The Committee for the Fiduciary Standard (or "CFS," of which this author serves as Chair of its Steering Committee), a group of volunteers. The CFS posits that the fiduciary standard as currently applied under the Advisers Act can be summarily articulated as a set of five core principles:

Put the client’s best interests first;

Act with prudence, that is, with the skill, care, diligence and good judgment of a professional;

Do not mislead clients--provide conspicuous, full and fair disclosure of all important facts;

These five core principles form the basis of The Committee for the Fiduciary Standard's "Fiduciary Oath," which all consumers should insist on be signed by their financial advisor or investment adviser:

PUTTING YOUR INTERESTS FIRST I believe in placing your best interests first. Therefore, I am proud to commit to the following five fiduciary principles:

I will always put your best interests first.

I will act with prudence; that is, with the skill, care, diligence, and good judgment of a professional.

I will not mislead you, and I will provide conspicuous, full and fair disclosure of all important facts.

I will avoid conflicts of interest.

I will fully disclose and fairly manage, in your favor, any unavoidable conflicts.

Yet, today we see terms such as "best interests" are being co-opted by non-fiduciary. (Witness, for example, FINRA's embrace of the term in recent communications.) Hence, further definition of the principles appears to be required.

While the world "fiduciary" is not utilized in the CFS' Fidicuary Oath, the five principles flow from the broad fiduciary standard of conduct applied to investment advisers, which is commonly set forth in the United States as a triad of broad fiduciary duties – due care, loyalty, and utmost good faith. As a result, from the CFS' five core principles we can discern additional specific principles in applying the fiduciary standard which can serve to guide both fiduciaries and their clients.

To this end, I propose "Professional Standards of Conduct" which, together with the Five Core Principles and the "Fiduciary Oath," all bona fide fiduciaries can voluntarily subscribe to. Set forth below, these Financial Advisor and Investment Adviser Professional Standards of Conduct are patterned, in part, after the Model Rules of Professional Conduct of the American Bar Association (as attorneys also possess fairly strict fiduciary obligations toward their client). The included footnotes, below, further explore each specific standard.

Which Organization(s) Will Step Forward?
There are many organizations which possess some form of voluntary adherence to a "Code of Ethics" or "Fiduciary Oath" or "Standards of Conduct." At times interpretations of these standards permit actors to not be required to be a fiduciary at all times, when providing financial advice. At other times these voluntary codes are ill-prescribed and/or possess giant loopholes.

Which organization(s) will step forward to adopt clear and unequivocal fiduciary standards for its members, at all times when fiduciary standards are applied?

Which organization(s) exist now, if any, around which we - as an emerging profession - can voluntarily embrace as our professional standard of conduct?

CFP Board?

FPA?

NAPFA?

Alliance of Comprehensive Planners?

Garrett Planning Network?

IAA?

CFA Institute?

AICPA/PFP Section?

ChFC?

fi360 (AIF)?

CEFEX?

Institute for the Fiduciary Standard?

Others?

In each instance, exploration is needed as to whether the organization embraces bona fide fiduciary standards of conduct (as set forth in detail, below) to the delivery of all personalized financial and investment advice.

Moreover, even with the adoption of the proper oath and standards, the organization must be committed to providing media exposure to its "Fiduciary Oath" and "Standards of Professional Conduct," through concerted promotion, in order to ensure an increased awareness by consumers of where consumers can go for trusted advice. Only in that manner will consumers avail themselves of the trusted financial advice which they need in order to better secure the attainment of their financial goals. Only in that manner will the vast majority of Americans eventually secure trusted advice, leading to increased capital formation and U.S. economic growth. As well as more secure personal financial futures.

Of course, if none of the above organizations is willing to embrace professional standards of conduct, of the form set forth below, should a new organization be formed? If so, should it be private and for-profit, or private and not-for-profit?

These are difficult questions. Let us hope we can explore these questions, and find potential solutions, in the months and years ahead. For the sake of a true profession. For the sake of all Americans.

Ron A. Rhoades, JD, CFP(r)
Asst. Professor, Business Department
Program Director, Financial Planning Program
Alfred State College
Alfred, NYDiscover the transformational power of small class sizes, caring faculty who know you and call you by your first name, and a small college dedicated to enabling you to succeed in all aspects of life. We are a diverse, caring community of scholars, committed to succeed. We Are … Alfred State! Where … It Matters!For more information about Prof. Ron A. Rhoades, JD, CFP® please visit:http://www.alfredstate.edu/users/rhoadera View my blog at: www.scholarfp.blogspot.comFollow me on Twitter: @140ltdConnect with me on LinkedIn: www.linkedin.com/pub/ron-rhoades/b/574/5aa/

The foregoing article represents the individual views of Ron Rhoades, and should not be attributed to any organization with which Ron is affliated in any manner. To contact Ron Rhoades, please e-mail: RhoadeRA@AlfredState.edu. Thank you.
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(NOTE: THESE PROPOSED STANDARDS CAN BE MODIFIED TO ALSO APPLY TO THE DELIVERY OF OTHER ASPECTS OF FINANCIAL ADVICE.)INVESTMENT ADVISER PROFESSIONAL
STANDARDS OF CONDUCT

Any
statement which merely describes a security, without more,[i]
shall not be construed as personalized investment advice. However, any
statement by an investment adviser or broker or their representatives which
expresses whether a security is appropriate for a retail client or which
constitutes a recommendation[ii]
for the purchase or sale of a security by a specific retail client shall be
considered the delivery of personalized investment advice.

Investment
advisers and brokers, and their representatives, are professionals[iii]
providing personalized investment advice are given the highest degree of trust
and confidence[iv]
by their clients. They are fiduciaries in the broadest sense, and accordingly
possess broad fiduciary duties of undivided loyalty, due care, and utmost good
faith to the client. Accordingly, but
not by way of limitation,[v]
investment advisers and brokers providing personalized investment advice and
their representatives shall:

7)not
offer, solicit, or accept any gift, benefit, compensation, or consideration[xiii]
that reasonably could be expected to compromise their independence and
objectivity;

8)fully
disclose[xiv]
all material[xv]
facts to their clients[xvi]
affirmatively[xvii]
and in a timely[xviii]
manner, including but not limited to conflicts of interest which are not
reasonably avoided, in a manner in which client understanding[xix]
is assured;

9)properly
manage any remaining conflicts of interest in order to secure the client’s
informed consent[xx]
to a transaction which remains substantively fair to the client, in order that
that the client’s best interests remain paramount[xxi]
above the interests of the broker or adviser[xxii];

10)reasonably seek to not favor the
interests of any one client over the interest of another client;

11)act with the due care,[xxiii]
applying the requisite knowledge, experience and attention to the engagement
expected of a professional providing personalized investment advice;[xxiv]

12)ensure that the total fees and costs
paid by the client in connection with personalized investment advice and the
investments selected are reasonable under the circumstances;

13)reasonably consider and recommend to
the client such strategies and investment products which may reduce the tax
burdens imposed upon the client over time;

14)keep all information about clients
(including prospective clients and former clients) in strict confidence,
including the client’s identity, the client’s financial circumstances, the
client’s security holdings, and advice furnished to the client by the firm,
unless the client consents otherwise;

15)shall be subject to the foregoing
fiduciary standards with respect to all of the investment and financial
advisory activities provided to the client;

16)shall not seek to have any client
waive[xxv]
the adviser’s core duties of loyalty, due care, and utmost good faith,
including but not limited to the duties to ensure all fees and costs incurred
by the client are reasonable and that tax reduction strategies are properly
employed; however, within reasonable boundaries the scope of the client’s
engagement of the investment adviser may be limited in writing;

17)shall not seek to change[xxvi]
the fiduciary-client relationship to an arms-length relationship,[xxvii]
unless:

a.the client seeks only trade execution
services with no further personalized investment advice (including no
references back to any prior investment advice provided); and

b.the broker or adviser provides the
client, in a single writing wholly separate and apart from any other contract
or disclosure, of the following statement in bold all-caps print of a minimum
12-point font:

YOU HAVE REQUESTED A
CHANGE IN OUR RELATIONSHIP FROM AN ADVISORY RELATIONSHIP TO ONE OF TRADE
EXECUTION SERVICES ONLY.

AS SUCH, WE WILL NO
LONGER BE PROVIDING PERSONALIZED INVESTMENT ADVICE TO YOU.

YOU ARE NO LONGER
ENTITLED RELY UPON ANY STATEMENTS MADE BY THIS FIRM OR ITS REPRESENTATIVES AS
“ADVICE.” NO STATEMENT MADE BY THIS FIRM OR ITS REPRESENTATIVES, IN FURNISHING
INFORMATION REGARDING A SECURITY OR INVESTMENT PRODUCT, SHOULD BE CONSTRUED BY
YOU AS ADVICE.

YOU NOW BEAR SOLE
RESPONSIBILITY TO EVALUATE ANY INVESTMENT PRODUCT OR SECURITY.

WE ARE NO LONGER
REQUIRED TO ACT IN YOUR BEST INTEREST. ACCORDINGLY, WE MAY CHOOSE TO FAVOR OUR
INTERESTS OVER YOUR INTERESTS.

YOU ARE NOW SOLELY RESPONSIBLE
FOR YOUR OWN PROTECTION.

and

c.the client provides informed consent
thereto, in writing.

18)shall not utilize the title which
combines the words “investment,” “financial,” “wealth,” or similar terms with
“adviser,” “advisor,” “counsel,” “counselor,” “manager,” or similar terms,
unless the firm and/or its representatives accept that, as to any and all
clients (including prospective clients) who may have received a communication
of such title(s), the firm and/or its representatives act as fiduciaries at all
time with respect to such client(s), and without exception.[xxviii]

I
would suggest that the Commission consider, in conjunction with any other
criteria and guidelines it may develop, requiring anyone providing personalized
investment advice to commit to a simple “mom-and-pop” statement describing the
adviser’s responsibility. The criterion for determining when this statement
would be required is also simple; it is the “you” standard.

The
‘You’ Standard

If
a prospective client calls an adviser and says “I would like to buy xx shares
of YYY”. No problem, the adviser would be subject to a suitability standard.

If
a prospective client calls an adviser and says “I’m thinking of buying YYY,
what does your firm think of the stock?” Again, no problem, the adviser would
be subject to a suitability standard.

However,
if the prospect then says “That sounds good, do you think I should buy YYY?”
and the adviser responds “yes, I think YYY would be a good investment for YOU,”
he or she would then be held to a fiduciary standard and required to provide
the client with the Mom-and-Pop commitment.

The
obvious point is, as soon as an adviser uses the term “you” in a
recommendation, he or she is no longer acting under a suitability standard.
Trust is absolute; therefore, once a relationship of trust has been established
and personalized advice has been provided; all subsequent business would be
under a fiduciary standard.

At all times the relationship between the
describer of the investment security and the customer should remain an
impersonal one and no formation of a relationship of trust and confidence, and
no overreaching, should occur. See, e.g.,Lowe v. SEC, 472 U.S. 181 (1985)
(“The dangers of fraud, deception, or overreaching that motivated the enactment
of the [Advisers Act] are present in personalized communications … As long as
the communications between petitioners and their subscribers remain entirely
impersonal and do not develop into the kind of fiduciary, person-to-person
relationships that were discussed at length in the legislative history of the
Act and that are characteristic of investment adviser-client relationships, we
believe the publications are, at least presumptively, within the exclusion and
thus not subject to registration under the Act.”) Id. at 210.

[ii] In the SEC Staff’s
January 2011 study, the SEC staff noted that “Minimum baseline professionalism
standards could include, for example, specifying what basis a broker-dealer or
investment adviser should have in making a recommendation to an investor.” SEC
Staff Study at p.vii.

We do not suggest
that providing stock analyst research reports or a list of all buy and sell
recommendations made by a firm to a broad group of clients would constitute
personalized investment advice. However, if a broker or its registered
representative undertakes a personal, one-on-one communication to a client with
a purchase or sale recommendation, such would constitute personalized
investment advice.

[iii] Generally, the
investment adviser is a professional, and as such accepts restraint on his, her
or its conduct as a result of acceding to fiduciary status. As stated early on by Adam Smith, the founder
of modern capitalism: “Our continual observations upon the conduct of others insensibly
lead us to form to ourselves certain general rules concerning what is fit and
proper either to be done or to be avoided.” Adam Smith, of Moral Sentiments 229
(E.G. West ed. 1969). The domain of the investment counselor has previously
been described as the “investment advisory profession. Lowe v. SEC, 472 U.S. 181, 229 (1985) (White, J., dissenting
opinion). Clients trust in investment advisers, if not for the protection of
life and liberty, at least for the safekeeping and accumulation of property.
Bad investment advice may be a cover for stock-market manipulations designed to
bilk the client for the benefit of the adviser; worse, it may lead to ruinous
losses for the client. To protect investors, the [SEC] insists, it may require
that investment advisers, like lawyers, evince the qualities of truth-speaking,
honor, discretion, and fiduciary responsibility. Id. Early on, Douglas T. Johnston, Vice President of the
Investment Counsel Association of America, stated in part: ‘The definition of
'investment adviser' … include[s] those firms which operate on a professional basis and which have come
to be recognized as investment counsel.” Lowe
v. SEC, 472 U.S. 181 (1985), fn. 38.
[Emphasis added.] Moreover, the U.S. Securities and
Commission’s report which led to the adoption of the Advisers Act “stressed the
need to improve the professionalism
of the industry, both by eliminating tipsters and other scam artists and by
emphasizing the importance of unbiased advice, which spokespersons for
investment counsel saw as distinguishing their profession from investment
bankers and brokers.” SEC Staff, “Study
on Investment Advisers and Broker Dealers” (Jan. 21, 2011), citing Investment
Trusts and Investment Companies: Investment Counsel, Investment Management, Investment
Supervisory, and Investment Advisory Services, H.R. Doc. No. 477 at 27-30
(1939). [Emphasis added.]

[iv] The U.S. Securities
and Exchange Commission’s early comments regarding the necessity for imposition
of fiduciary duties on those who provide investment advice upon learning the
details of a client’s financial affairs should not go unnoticed: “The record discloses that registrant’s
clients have implicit trust and confidence in her. They rely on her for investment
advice and consistently follow her recommendations as to the purchase and sale
of securities. Registrant herself testified that her clients follow her advice
‘in almost every instance.’ This reliance and repose of trust and confidence,
of course, stem from the relationship created by registrant’s position as an
investment adviser. The very function of furnishing investment counsel on a fee
basis – learning the personal and intimate details of the financial affairs of
clients and making recommendations as to purchases and sales of securities –
cultivates a confidential and intimate relationship and imposes a duty upon the
registrant to act in the best interests of her clients and to make only
recommendations as will best serve such interests. In brief, it is her duty to
act in behalf of her clients. Under these circumstances, as registrant
concedes, she is a fiduciary; she has asked for and received the highest degree
of trust and confidence on the representation that she will act in the best
interests of her clients.” In re: Arleen W. Hughes, Exchange Act
Release No. 4048 (Feb. 18, 1948).

[v] The SEC has
acknowledged that the Advisers Act is a “principles-based” regulatory regime,
rather than one based upon rules. In 2008, the Director of the SEC’s Division
of Investment Management, who is responsible for implementation of the
provisions of the Investment Advisers Act, noted, for example: “When enacting
the Investment Advisers Act of 1940, Congress recognized the diversity of
advisory relationships and through a principles-based statute provided them
great flexibility, with the overriding obligation of fiduciary responsibility.”
Andrew J. Donohue, Dir., Div. of Inv. Mgmt., U.S. Sec. & Exch. Comm’n,
Keynote Address at the 9th Annual International Conference on Private
Investment Funds (Mar. 10, 2008), available at http://www.sec.gov/news/speech/2008/spch031008adj.htm. Hence, while
certain aspects of these proposed rules seek to elicit the parameters of the
fiduciary obligation, for the guidance and benefit of both fiduciaries and
their clients, the setting forth of specific principles should not be
interpreted to limit, in any way, the broad fiduciary principles which continue
to apply to those investment advisers and brokers, and their representatives,
who provide personalized investment advice.

[vi] “The duty of
loyalty requires an adviser to serve the best interests of its clients, which
includes an obligation not to subordinate the clients’ interests to its
own.” SEC’s “Staff Study on Investment
Advisers and Broker-Dealers - As Required by Section 913 of the Dodd-Frank Wall
Street Reform and Consumer Protection Act” (Jan. 21, 2011), p.22 (available at http://sec.gov/news/studies/2011/913studyfinal.pdf.), citingTransamerica Mortgage Advisors, Inc., 444 U.S. 11, 17 (1979).

See
also Amendments to Form ADV, Release No. IA-3060 (July 28, 2010) (ADV Release)
at 3: “Under the Advisers Act, an adviser is a fiduciary whose duty is to serve
the best interests of its clients….” See also Commission Guidance Regarding the
Duties and Responsibilities of Investment Company Boards of Directors with
Respect to Investment Adviser Portfolio Trading Practices, Release Nos.
34-58264; IC-28345 (July 30, 2008) (2008 Proposed Director Guidance on Soft
Dollars), at n. 64: “Under sections 206(1) and (2), in particular, an adviser
must discharge its duties in the best interest of its clients….”

“An
essential feature and consequence of a fiduciary relationship is that the
fiduciary becomes bound to act in the interests of her beneficiary and not of
herself.” In re Prudential Ins. Co. of America Sales Prac., 975 F.Supp. 584,
616 (D.N.J., 1996).

[vii]See SEC vs. Capital Gains Research Bureau,
375 U.S. 180, 84 S.Ct. 275, 11 L.Ed.2d 237 (1963) (“Courts have imposed on a
fiduciary an affirmative duty of 'utmost good faith, and full and fair
disclosure of all material facts,' as well as an affirmative obligation 'to
employ reasonable care to avoid misleading' his clients.” Id. at 194.)

“Duty
to Act in Good Faith: An adviser must –

Act honestly toward
clients with candor and utmost good faith.

Examples of this might include –

-being
truthful and accurate in all communications and disclosures

-being
forthright about issues, mistakes and conflicts of interest

-providing
fund directors with all information in the adviser’s
possession that reasonably bears on a board decision, particularly where the
adviser has a personal interest in the outcome or similar conflict of interest

Treat
clients fairly.

Examples of this might include –

-avoiding
favoritism of one client or group of clients over another in handling
investment opportunities and trade allocations

-adopting
investment opportunity and trade allocation procedures and applying them
consistently over time so that no client or group of clients is systematically
disadvantaged

-allocating
shared costs across accounts using a rational methodology applied consistently
over time

-seeking
a fair and prompt resolution of all legitimate client complaints”

In
the corporate context, one court explained: “A failure to act in good faith may
be shown, for instance, where the fiduciary intentionally acts with a purpose
other than that of advancing the best interests of the corporation, where the
fiduciary acts with the intent to violate applicable positive law, or where the
fiduciary intentionally fails to act in the face of a known duty to act,
demonstrating a conscious disregard for his duties. There may be other examples
of bad faith yet to be proven or alleged, but these three are the most
salient.” Stone ex rel. AmSouth
Bancorporation v. Ritter, 911 A.2d 362 (Del. 2006) at text surrounding
footnote 26 (footnote omitted). This same court concluded that the duty of good
faith is essentially a subset of the duty of loyalty.

[viii]See SEC vs. Capital Gains Research Bureau,
375 U.S. 180, 84 S.Ct. 275, 11 L.Ed.2d 237 (1963) (“Courts have imposed on a
fiduciary an affirmative duty of 'utmost good faith, and full and fair
disclosure of all material facts,' as well as an affirmative obligation 'to
employ reasonable care to avoid misleading' his clients.” Id. at 194.)

[ix] “[I]nvestment
advisers are prohibited under Advisers Act Sections 206(1) and (2) from making
any communications to clients that are misleading.” SEC’s “Staff Study on Investment Advisers and
Broker-Dealers - As Required by Section 913 of the Dodd-Frank Wall Street
Reform and Consumer Protection Act” (Jan. 21, 2011), p.30 (available at http://sec.gov/news/studies/2011/913studyfinal.pdf.)

See alsoSEC vs. Capital Gains Research Bureau,
375 U.S. 180, 84 S.Ct. 275, 11 L.Ed.2d 237 (1963) (“Courts have imposed on a
fiduciary an affirmative duty of 'utmost good faith, and full and fair
disclosure of all material facts,' as well as an affirmative obligation 'to
employ reasonable care to avoid misleading' his clients.” Id. at 194.)

[x] In Bayer v. Beran, 49 N.Y.S.2d 2, Mr.
Justice Shientag said: "The fiduciary has two paramount obligations:
responsibility and loyalty. * * * They lie at the very foundation of our whole
system of free private enterprise and are as fresh and significant today as
when they were formulated decades ago. * * * While there is a high moral
purpose implicit in this transcendent fiduciary principle of undivided loyalty,
it has back of it a profound understanding of human nature and of its
frailties. It actually accomplishes a practical, beneficent purpose. It tends to
prevent a clouded conception of fidelity that blurs the vision. It preserves
the free exercise of judgment uncontaminated by the dross of divided allegiance
or self-interest. It prevents the operation of an influence that may be
indirect but that is all the more potent for that reason."

[xi] “[T]he Committee Reports indicate a desire to
... eliminate conflicts of interest between the investment adviser and the
clients as safeguards both to 'unsophisticated investors' and to 'bona fide
investment counsel.' The [IAA] thus reflects a ... congressional intent to
eliminate, or at least to expose, all conflicts of interest which might incline
an investment adviser — consciously or unconsciously — to render advice which
was not disinterested.” SEC v. Capital Gains Research Bureau, Inc.,
375 U.S. 180, 191-2 (1963).

“The
IAA arose from a consensus between industry and the SEC that ‘investment
advisers could not 'completely perform their basic function — furnishing to
clients on a personal basis competent, unbiased, and continuous advice
regarding the sound management of their investments — unless all conflicts of
interest between the investment counsel and the client were removed.'” Financial Planning Association v. Securities
and Exchange Commission, No. 04-1242 (D.C. Cir. 3/30/2007) (D.C. Cir., 2007),
citing SEC vs. Capital Gains Research Bureau at 187.

In its recent Study, the SEC Staff
recommended that the “Commission should consider whether rulemaking would be
appropriate to prohibit certain conflicts, to require firms to mitigate
conflicts through specific action, or to impose specific disclosure and consent
requirements.” SEC’s “Staff Study on
Investment Advisers and Broker-Dealers - As Required by Section 913 of the
Dodd-Frank Wall Street Reform and Consumer Protection Act” (Jan. 21, 2011),
p.118 (available at http://sec.gov/news/studies/2011/913studyfinal.pdf.)

“Conflicts
of interest can lead experts to give biased and corrupt advice. Although disclosure is often proposed as a
potential solution to these problems, we show that it can have perverse
effects. First, people generally do not
discount advice from biased advisors as much as they should, even when
advisors’ conflicts of interest are honestly disclosed. Second, disclosure can increase the bias in
advice because it leads advisors to feel morally licensed and strategically
encouraged to exaggerate their advice even further. As a result, disclosure may
fail to solve the problems created by conflicts of interest and may sometimes
even make matters worse.” Cain, Daylian
M., Loewenstein, George, and Moore, Don A., “The Dirt on Coming Clean: Perverse
Effects of Disclosing Conflicts of Interest”(2003). As Professor Cain has more
recently stated in a public appearance, “It does not appear that sunlight is
the best disinfectant, after all.” (Fiduciary Forum, Washington, D.C., Sept.
2010).

In recognition of
the extreme conflicts of interest present, and the potential for abuse, the SEC
generally prohibits “performance fees” being charged by registered investment
advisers. “Generally, investment advisers that are registered or required to be
registered with the Commission are prohibited by Advisers Act Section 205(a)(1)
from entering into a contract with any client that provides for compensation
based on a share of the capital gains or appreciation of a client’s funds,
i.e., a performance fee. Section 205(a)(1)
is designed, among other things, to eliminate ‘profit sharing contracts [that]
are nothing more than ‘heads I win, tails you lose’ arrangements,’ and that
‘encourage advisers to take undue risks with the funds of clients,’ to
speculate, or to overtrade. There are
several exceptions to the prohibition, mostly applicable to advisory contracts
with institutions and high net worth clients.”

“The
federal securities laws and FINRA rules restrict broker-dealers from
participating in certain transactions that may present particularly acute
potential conflicts of interest. For
example, FINRA rules generally prohibit a member with certain ‘conflicts of
interest’ from participating in a public offering, unless certain requirements
are met. FINRA members also may not
provide gifts or gratuities to an employee of another person to influence the
award of the employer’s securities business.
FINRA rules also generally prohibit a member’s registered
representatives from borrowing money from or lending money to any customer,
unless the firm has written procedures allowing such borrowing or lending
arrangements and certain other conditions are met. Moreover, the Commission’s Regulation M
generally precludes persons having an interest in an offering (such as an
underwriter or broker-dealer and other distribution participants) from engaging
in specified market activities during a securities distribution. These rules are intended to prevent such
persons from artificially influencing or manipulating the market price for the
offered security in order to facilitate a distribution.” SEC’s “Staff Study on Investment Advisers and
Broker-Dealers - As Required by Section 913 of the Dodd-Frank Wall Street
Reform and Consumer Protection Act” (Jan. 21, 2011), pp.58-9 (available at http://sec.gov/news/studies/2011/913studyfinal.pdf.) (Citations
omitted.) “FINRA rules also establish
restrictions on the use of non-cash compensation in connection with the sale
and distribution of mutual funds, variable annuities, direct participation
program securities, public offerings of debt and equity securities, and real
estate investment trust programs. These rules generally limit the manner in
which members can pay for or accept non-cash compensation and detail the types
of non-cash compensation that are permissible.”
Id. at p.68.

See alsoThorp v. McCullum, 1 Gilman (6 Ill.)
614, 626 (1844) (“The temptation of self interest is too powerful and
insinuating to be trusted. Man cannot serve two masters; he will foresake the
one and cleave to the other. Between two conflicting interests, it is easy to
foresee, and all experience has shown, whose interests will be neglected and
sacrificed. The temptation to neglect the interest of those thus confided must
be removed by taking away the right to hold, however fair the purchase, or full
the consideration paid; for it would be impossible, in many cases, to ferret
out the secret knowledge of facts and advantages of the purchaser, known to the
trustee or others acting in the like character. The best and only safe antidote
is in the extraction of the sting; by denying the right to hold, the temptation
and power to do wrong is destroyed.”)

[xiii] “FINRA rules also
establish restrictions on the use of non-cash compensation in connection with
the sale and distribution of mutual funds, variable annuities, direct participation
program securities, public offerings of debt and equity securities, and real
estate investment trust programs. These rules generally limit the manner in
which members can pay for or accept non-cash compensation and detail the types
of non-cash compensation that are permissible.” SEC’s “Staff Study on
Investment Advisers and Broker-Dealers - As Required by Section 913 of the
Dodd-Frank Wall Street Reform and Consumer Protection Act” (Jan. 21, 2011), p.
68 (available at http://sec.gov/news/studies/2011/913studyfinal.pdf.) (Citations
omitted.)

[xiv] “[T]he duty of full
disclosure was imposed as a matter of general common law long before the
passage of the Securities Exchange Act.”
In the Matter of Arleen W. Hughes,
SEC Release No. 4048 (February 18, 1948) (a case involving a conflict of
interest arising out of principal trading). See
also, e.g., General Instructions for Part 2 of Form ADV: “Under federal and
state law, you are a fiduciary and must make full disclosure to your clients of
all material facts relating to the advisory relationship.” Id., at #3. In fact, the SEC requires registered investment
advisers to undertake a broad variety of affirmative disclosures, well beyond
disclosures of conflicts of interest, and many of these disclosures are
required to be found in Form ADV, Parts 1 and 2A and 2B. Part 2A requires information about the
adviser’s range of fees, methods of analysis, investment strategies and risk of
loss, brokerage (including trade aggregation policies and directed brokerage
practices, as well as use of soft dollars), review of accounts, client
referrals and other compensation, disciplinary history, and financial
information, among other matters.

SEC Staff recently noted that under the
“antifraud provisions of the Advisers Act, an investment adviser must disclose
material facts to its clients and prospective clients whenever the failure to
do so would defraud or operate as a fraud or deceit upon any such person. The adviser’s fiduciary duty of disclosure is
a broad one, and delivery of the adviser’s brochure alone may not fully satisfy
the adviser’s disclosure obligations.”
SEC’s “Staff Study on Investment Advisers and Broker-Dealers - As
Required by Section 913 of the Dodd-Frank Wall Street Reform and Consumer
Protection Act” (Jan. 21, 2011), p.23 (available at http://sec.gov/news/studies/2011/913studyfinal.pdf.)

Disclosure must be full and frank: “If dual
interests are to be served, the disclosure to be effective must lay bare the
truth, without ambiguity or reservation, in all its start significance.” See “Will the Investment Company and
Investment Advisory Industry Win an Academy Award?” remarks of Kathryn B.
McGrath, Director of the SEC Division of Investment Management, at the 1987
Mutual Funds and Investment Management Conference, citing Scott, The Fiduciary
Principle, 37 Calif. L. Rev. 539, 544 (1949).

[xv] “When a stock
broker or financial advisor is providing financial or investment advice, he or
she … is required to disclose facts that are material to the client's
decision-making.” Johnson v. John Hancock Funds, No. M2005-00356-COA-R3-CV (Tenn.
App. 6/30/2006) (Tenn. App., 2006).

A material fact is “anything which might
affect the (client’s) decision whether or how to act.” Allen Realty Corp. v. Holbert, 318 S.E.2d 592, 227 Va. 441 (Va.,
1984). A fact is considered material if
there is a substantial likelihood that a reasonable investor would consider the
information to be important in making an investment decision. TSC Industries, Inc. v. Northway, Inc.,
426 U.S. 438, 449 (1976); Basic, Inc. v.
Levinson, 485 U.S. 224, 233 (1988).

The existence of a conflict of interest is
a material fact that an investment adviser must disclose to its clients because
it "might incline an investment adviser -- consciously or unconsciously --
to render advice that was not disinterested." SEC v. Capital Gains Research Bureau, Inc., 375 U.S. at 191-192.

The standard of materiality is whether a
reasonable client or prospective client would have considered the information
important in deciding whether to invest with the adviser. See SEC v. Steadman, 967 F.2d 636, 643 (D.C. Cir. 1992).

All facts which might bear upon the
desirability of the transaction must be disclosed. “[W]hen a firm has a
fiduciary relationship with a customer, it may not execute principal trades
with that customer absent full disclosure of its principal capacity, as well as
all other information that bears on the desirability of the transaction from
the customer's perspective … Other authorities are in agreement. For example,
the general rule is that an agent charged by his principal with buying or
selling an asset may not effect the transaction on his own account without full
disclosure which ‘must include not only the fact that the agent is acting on
his own account, but also all other facts which he should realize have or are
likely to have a bearing upon the desirability of the transaction, from the
viewpoint of the principal.’” Geman v. S.E.C., 334 F.3d 1183, 1189
(10th Cir., 2003), quoting Arst v.
Stifel, Nicolaus & Co., 86 F.3d 973, 979 (10th Cir.1996) (applying
Kansas law) (quoting RESTATEMENT
(SECOND) OF AGENCY § 390 cmt. a (1958)).

See also RESTATEMENT
(THIRD) OF AGENCY, §8.06(1):

(1)Conduct by an agent
that would otherwise constitute a breach of duty … does not constitute a breach
of duty if the principal consents to the conduct, provided that

(a)In obtaining the principal’s
consent, the agent

(i)acts in good faith;

(ii)discloses all
material facts that the agent knows, has reason to know, or should know would
reasonabley affect the principal’s judgment …

(iii)otherwise deals
fairly with the principal; and

(b)the principal’s consent
concerns either a specific act or transaction, or acts or transactions of a
specified type that could reasonably be expected to occur in the ordinary
course of the agency relationship.

[xvi]See SEC vs. Capital Gains Research Bureau,
375 U.S. 180, 84 S.Ct. 275, 11 L.Ed.2d 237 (1963) (“Courts have imposed on a
fiduciary an affirmative duty of 'utmost good faith, and full and fair
disclosure of all material facts,' as well as an affirmative obligation 'to
employ reasonable care to avoid misleading' his clients.” Id. at 194.)

[xvii] The duty to
disclose is an affirmative one and rests with the advisor alone. Clients do not generally possess a duty of
inquiry. See, e.g., SEC’s “Staff
Study on Investment Advisers and Broker-Dealers - As Required by Section 913 of
the Dodd-Frank Wall Street Reform and Consumer Protection Act” (Jan. 21, 2011),
p.117 (available at http://sec.gov/news/studies/2011/913studyfinal.pdf.) “The [SEC} Staff
believes that it is the firm’s responsibility—not the customers’—to reasonably
ensure that any material conflicts of interest are fully, fairly and clearly
disclosed so that investors may fully understand them.”

As
stated in an early case applying the Advisers Act: “It is not enough that one
who acts as an admitted fiduciary proclaim that he or she stands ever ready to
divulge material facts to the ones whose interests she is being paid to
protect. Some knowledge is prerequisite to intelligent questioning. This is
particularly true in the securities field. Readiness and willingness to
disclose are not equivalent to disclosure. The statutes and rules discussed
above make it unlawful to omit to state material facts irrespective of alleged
(or proven) willingness or readiness to supply that which has been omitted.” Hughes v. SEC, 174 F.2d 969 (D.C. Cir.,
1949).

[xviii] “[D]isclosure, if
it is to be meaningful and effective, must be timely. It must be provided
before the completion of the transaction so that the client will know all the facts at the time that he is asked to give his
consent.” In the Matter of Arleeen W. Hughes, SEC Release No. 4048
(February 17, 1948), affirmed 174
F.2d 969 (D.C. Cir. 1949).

“The
adviser’s fiduciary duty of disclosure is a broad one, and delivery of the adviser’s
brochure alone may not fully satisfy the adviser’s disclosure obligations.” SEC
Staff Study (Jan. 2011), p.23, citingsee Instruction 3 of General
Instructions for Part 2 of Form ADV; Advisers Act Rule 204-3(f); also citing see also Release IA-3060.

Disclosures
of fees, costs, risks and other material facts, far in advance of specific
investment recommendations, such as those found upon the initial delivery of
Form ADV, Part 2A, would not meet the requirement of undertaking affirmative
disclosure in a manner designed to ensure client understanding. We suggest that
the Commission re-explore the delivery of point-of-recommendation disclosures,
for recommendations of pooled investment vehicles of any form, in order to
provide all fiduciary advisors with the benefit of a provisional safe harbor
for disclosures. However, to be meaningful and operable as a full disclosure of
all material facts, such a disclosure form, if adopted, should incorporate an
estimate of all of the fees and costs attendant to pooled investment vehicles,
such as brokerage commissions and other transactional costs within the fund
which are not included in the fund’s annual expense ratio.

We
also recommend that the SEC’s Division of Investment Management replace the
currently misleading computational method of “portfolio turnover” within a
fund, in which funds are permitted to report the lesser of purchases or sales
of securities in relation to the fund’s net assets, to a more accurate method
in which purchases and sales of securities within a fund are averaged; it is
currently conceivable that a fund with significant inflows or outflows report a
“zero” portfolio turnover in its filings, when in fact substantial purchases
and sales within a fund exist.

[xix] As stated in an
early decision by the U.S. Securities and Exchange Commission: “[We] may point
out that no hard and fast rule can be set down as to an appropriate method for
registrant to disclose the fact that she proposes to deal on her own account.
The method and extent of disclosure depends upon the particular client
involved. The investor who is not familiar with the practices of the securities
business requires a more extensive explanation than the informed investor. The
explanation must be such, however, that the
particular client is clearly advised andunderstands before the completion of each transaction that
registrant proposes to sell her own securities.” [Emphasis
added.] In re the Matter of Arleen Hughes, SEC Release No. 4048 (1948).

The
extent of the disclosure required is made clear by cases applying the fiduciary
standard of conduct in related professional advisory contexts, such as the
duties imposed upon an attorney with respect to his or her client: “The fact
that the client knows of a conflict is not enough to satisfy the attorney's
duty of full disclosure.” In re Src
Holding Corp., 364 B.R. 1 (D. Minn., 2007).
"Consent can only come after consultation — which the rule
contemplates as full disclosure.... [I]t is not sufficient that both parties be
informed of the fact that the lawyer is undertaking to represent both of them,
but he must explain to them the nature of
the conflict of interest in such detail so that they can understand the reasons
why it may be desirable for each to [withhold consent].") Florida Ins. Guar. Ass'n Inc. v. Carey
Canada, Inc., 749 F.Supp. 255, 259 (S.D.Fla.1990) [emphasis added], quoting
Unified Sewerage Agency, Etc. v. Jeko, Inc., 646 F.2d 1339, 1345-46 (9th
Cir.1981)); “[t]he lawyer bears the duty
to recognize the legal significance of his or her actions in entering a
conflicted situation and fully share that legal significance with clients.”
In re Src Holding Corp., 364 B.R. 1,
48 (D. Minn., 2007) [emphasis added].

The
burden of affirmative disclosure rests with the professional advisor;
constructive notice is insufficient. See
also British Airways, PLC v. Port Authority of N.Y. and N.J., 862 F.Supp.
889, 900 (E.D.N.Y.1994) (stating that the burden is on the client's attorney to
fully inform and obtain consent from the client); Kabi Pharmacia AB v. Alcon Surgical, Inc., 803 F.Supp. 957, 963
(D.Del.1992) (stating that evidence of the client's constructive knowledge of a
conflict would not be sufficient to satisfy the attorney's consultation duty); Manoir-Electroalloys Corp. v. Amalloy Corp.,
711 F.Supp. 188, 195 (D.N.J.1989) ("Constructive notice of the pertinent
facts is not sufficient."). A
client of a fiduciary is not responsible for recognizing the conflict and stating
his or her lack of consent in order to avoid waiver. Manoir-Electroalloys,
711 F.Supp. at 195.

[xx] The consent of the
client must be “intelligent, independent and informed.”Generally, “fiduciary law
protects the [client] by obligating the fiduciary to disclose all material
facts, requiring an intelligent,
independent consent from the [client], a substantively fair arrangement, or
both.” Frankel, Tamar, Fiduciary Law, 71
Calif. L. Rev. 795 (1983). [Emphasis
added.].

[xxi] “The duty of
loyalty requires an adviser to serve the best interests of its clients, which
includes an obligation not to subordinate the clients’ interests to its own.”
SEC Staff Study, January 2011, at p.22, citingsee, e.g., Proxy Voting by Investment
Advisers, Investment Advisers Act Release No. 2106 (Jan. 31, 2003 (“Release
2106”); also citingAmendments to
Form ADV, Investment Advisers Act Release No. 3060 (July 28, 2010)
(“Release 3060”).

[xxiii] While a broader
elicitation of the duty of due care could be undertaken, the focus of this
comment letter is on a fiduciary’s duties of loyalty and utmost good faith,
given that these are the distinguishing characteristics of the fiduciary
relationship. Nevertheless, we relate some general guidance as to the duty of
due care, hereafter.

Under
the Advisers Act, the SEC Staff recently interpreted the fiduciary duty of care
to require the investment adviser to “make a reasonable investigation to
determine that it is not basing its recommendations on materially inaccurate or
incomplete information.” SEC’s “Staff
Study on Investment Advisers and Broker-Dealers - As Required by Section 913 of
the Dodd-Frank Wall Street Reform and Consumer Protection Act” (Jan. 21, 2011),
p.22 and p.27 (available at http://sec.gov/news/studies/2011/913studyfinal.pdf.), citing, see, Concept Release on the U.S. Proxy System, Investment Advisers
Act Release No. 3052 (July 14, 2010) (“Release 3052”) at 119.

However, we note that SEC Staff has
recommended that more guidance be provided in this area:

“The
[SEC] Staff believes that the Commission, through rulemaking, guidance, or
both, should specify the minimum professional obligations of investment
advisers and broker-dealers under the duty of care. In evaluating the
regulation of investment advisers and broker-dealers, the Staff believes that
it could be useful to develop rules or guidance on the minimum requirements that
are fundamental to a duty of care under the uniform fiduciary standard.” SEC’s “Staff Study on Investment Advisers and
Broker-Dealers - As Required by Section 913 of the Dodd-Frank Wall Street
Reform and Consumer Protection Act” (Jan. 21, 2011), p.122 (available at http://sec.gov/news/studies/2011/913studyfinal.pdf.)

“Professional
standards under the duty of care could be developed regarding the nature and
level of review and analysis that broker-dealers and investment advisers should
undertake when making recommendations or otherwise providing advice to retail
customers. The Commission could articulate and harmonize any such standards, by
referring to and expanding upon, as appropriate, the explicit minimum standards
of conduct relating to the duty of care currently applicable to broker-dealers
(e.g., suitability (including product-specific suitability), best execution,
and fair pricing and compensation requirements) under Commission and SRO
rules.” Id. “Any such rules or guidance could take into
account long-held Advisers Act fiduciary principles, such as the duty to
provide suitable investment advice (e.g., with respect to specific
recommendations and the client’s portfolio as a whole) and to seek best
execution. Detailed guidance in this
area has not been a traditional focus of the investment adviser regulatory
regime.” Id. at 123.

We
suggest that the duty of due care has been articulated in similar fiduciary
contexts, such as those arising under ERISA and under the Prudent Investor Rule
applicable to trustees.

While
the articulation of the duty of due care under the Advisers Act has not been
elicited to a large degree by the courts or through administrative decisions or
rules, we suggest that the SEC could look to the duty of due care as it is
similarly applied under ERISA. While the duty of loyalty under ERISA is a “sole
interests” standard (rather than the “best interests” standard applicable under
the Advisers Act), it is possible to maintain consistency between the DOL and
SEC regulatory regimes by adopting a common duty of due care. We refer the SEC
to the following summary of the duty of due care found under ERISA:

The duty
of prudence mandated by § 1104(a)(1)(B) "is measured according to the
objective prudent person standard developed in the common law of trusts." LaScala v. Scrufari, 479 F.3d 213, 219
(2d Cir. 2007) (quotation marks omitted). Under that common-law standard, and
consistent with ERISA's instruction that fiduciaries act in a prudent manner
"under the circumstances then prevailing," 29 U.S.C. § 1104(a)(1)(B),
"[w]e judge a fiduciary's actions based upon information available to the
fiduciary at the time of each investment decision and not from the vantage
point of hindsight," In re Citigroup,
662 F.3d at 140 (internal quotation marks omitted). Accordingly, "[w]e
cannot rely, after the fact, on the magnitude of the decrease in the [relevant
investment's] price; rather, we must consider the extent to which plan
fiduciaries at a given point in time reasonably could have predicted the
outcome that followed." Id. In other words, as the Court of Appeals for
the Third Circuit has nicely summarized, this standard "focus[es] on a
fiduciary's conduct in arriving at an investment decision, not on its results,
and ask[s] whether a fiduciary employed the appropriate methods to investigate
and determine the merits of a particular investment." In re Unisys Sav. Plan Litig., 74 F.3d 420, 434 (3d Cir.
1996). In short, ERISA's "fiduciary duty of care . . . requires prudence,
not prescience." DeBruyne v.
Equitable Life Assurance Soc'y of the U.S., 920 F.2d 457, 465 (7th Cir.
1990) (internal quotation marks omitted).

Pursuant
to ERISA implementing regulations, promulgated by the Secretary of Labor, a
fiduciary's compliance with the prudent-man standard requires that the
fiduciary give "appropriate consideration" to whether an investment
"is reasonably designed, as part of the portfolio . . . to further the
purposes of the plan, taking into consideration the risk of loss and the
opportunity for gain (or other return) associated with the investment." 29
C.F.R. § 2550.404a-1(b)(2)(i).14 Accordingly, the prudence of each
investment is not assessed in isolation
but, rather, as the investment relates to the portfolio as a whole. See Cal. Ironworkers Field Pension Trust v.
Loomis Sayles & Co., 259 F.3d 1036, 1043 (9th Cir. 2001); Laborers Nat'l Pension Fund v. N. Trust
Quantitative Advisors, Inc., 173 F.3d 313, 322 (5th Cir. 1999). An ERISA
fiduciary's investment decisions also must account for changed circumstances,
and "[a] trustee who simply ignores changed circumstances that have
increased the risk of loss to the trust's beneficiaries is imprudent." Armstrong v. LaSalle Bank Nat'l Assoc.,
446 F.3d 728, 734 (7th Cir. 2006).

The
duty of due care has been considered to involve both process and
substance. That is, in reviewing the
conduct of an investment adviser in adherence to the investment adviser’s
fiduciary duty of due care, a court would likely review whether the decision
made by the investment adviser was informed (procedural due care) as well as
the substance of the transaction or advice given (substantive due care). Procedural due care is often met through the
application of an appropriate decision-making process, and judged under the
standard, not (necessarily) by the end result.
Substantive due care pertains to the standard of care and the standard
of culpability for the imposition of liability for a breach of the duty of
care.

Under
the Investment Advisers Act of 1940, the duty of due care is measured by the
ordinary negligence standard, and it is anticipated that the duty of due care
imposed by this rule would likewise be measured by the same ordinary negligence
standard. However, the standard of
prudence is relational, and it follows that the standard of care for investment
advisers is the standard of a prudent investment adviser. By way of explanation, the standard of care
for professionals is that of prudent professionals; for amateurs, it is the
standard of prudent amateurs. For example, Restatement of Trusts 2d § 174
(1959) provides: "The trustee is under a duty to the beneficiary in
administering the trust to exercise such care and skill as a man of ordinary
prudence would exercise in dealing with his own property; and if the trustee
has or procures his appointment as trustee by representing that he has greater
skill than that of a man of ordinary prudence, he is under a duty to exercise
such skill." Case law strongly supports the concept of the higher standard
of care for the trustee representing itself to be expert or professional. See
Annot., “Standard of Care Required of Trustee Representing Itself to Have
Expert Knowledge or Skill”, 91 A.L.R. 3d 904 (1979) & 1992 Supp. at 48-49.

Note,
however, that the courts recognize that it is simply not possible for a
fiduciary to be aware of every piece of relevant information before making a
decision on behalf of the principal, and a fiduciary cannot guarantee that a
correct judgment will be made in all cases.
Due to the difficulty of evaluating the behavior of fiduciaries, most
often courts turn to an analysis not of the advice that was given but rather to
the process by which the advice was derived.
Nevertheless, while adherence to a proper process is also necessary, at
each step along the process the investment adviser is required to act prudently
with the care of the prudent investment adviser. In other words, the investment adviser must
at all times exercise good judgment, applying his or her education, skills, and
expertise to the financial planning issue before the investment adviser. Simply following a prudent process is not enough
if prudent good judgment (and the investment adviser’s requisite knowledge,
expertise and experience) is not applied as well.

One must evaluate the duty of care, unlike
the duty of loyalty, by the process the fiduciary undertakes in performing his functions
and not the outcome achieved. The very word “care” connotes a process. One
associates caring with a condition, state of mind, manner of mental attention,
a feeling, regard, or liking for something.
How else may one determine whether an investment adviser who regularly
achieves below average returns, or an attorney who loses most cases, has
performed his duty of care? It is only through evaluating the steps the
fiduciary took while doing his job, and not whether they resulted in success,
that one may judge whether the fiduciary has breached his duty.

Additionally,
the suitability standard applicable to broker-dealers has been implied to apply
to investment advisers, although by no means is suitability the standard by
which an investment adviser’s due care should be judged; suitability remains
only a small part of an investment adviser’s fiduciary obligation of due care.
Certainly investment advisers owe their clients the duty to provide suitable
investment advice. See SEC's
"Staff Study on Investment Advisers and Broker-Dealers - As Required by
Section 913 of the Dodd-Frank Wall Street Reform and Consumer Protection
Act" (Jan. 21, 2011), pp.27-8 (available at http://sec.gov/news/studies/2011/913studyfinal.pdf.), quoting Suitability of Investment Advice
Provided by Investment Advisers, Investment Advisers Act Release No. 1406 (Mar.
16, 1994) (proposing a rule under the Advisers Act Section 206(4)'s antifraud
provisions that would expressly require advisers to give clients only suitable
advice; the rule would have codified existing suitability obligations of
advisers). However, the due diligence burdens on an investment adviser can
extend much further.

[xxiv] There are a variety
of organizations which already promulgate professional standards of conduct for
those who provide personalized investment advice. See, e.g., Certified Financial Planner Board of Standards, Inc.’s
Standards of Professional Conduct,” available at http://www.cfp.net/for-cfp-professionals/professional-standards-enforcement; AICPA Exposure
Draft, “Proposed Statement on Standards in Personal Financial Planning
Services” (June 11, 2013); CFA Institute’s “Code of Ethics and Standards of
Professional Conduct,” available at http://www.cfainstitute.org/ethics/codes/Pages/index.aspx. Other standards of
conduct for financial planning and/or investment advisory services are
promulgated by other organizations. International standards have also been
promulgated for adoption in various countries. See ISO 22222 (2005).

[xxv] Estoppel and waiver
possess a place in anti-fraud law, generally.
However, in a fiduciary legal environment estoppel and waiver operate
differently than that found in purely commercial relationships. Core fiduciary duties cannot be waived. Nor can clients be expected to contract away
their core fiduciary rights. Estoppel
has a different role in the context of “actual fraud,” as opposed to its
limited role when dealing with “constructive fraud.” For example, for estoppel
to make unactionable a breach of a fiduciary obligation due to the presence of
a conflict, it is required that the fiduciary undertake a series of measures,
far beyond undertaking mere disclosure of the conflict of interest.

By way of further
explanation, in the context of arms-length relationships, disclosure and
consent creates estoppel, as customers generally possess responsibility for
their own actions. This is fundamental
to anti-fraud law, as applicable to arms-length relationships (“actual fraud”)
. Prosser and Keeton wrote that it is a
“fundamental principle of the common law that volenti non fit injuria—to one who is willing, no wrong is done.”

Yet, the doctrine of
estoppel springs from equitable principles, and it is designed to aid in the
administration of justice where, without its aid, injustice might result. Levin
v. Levin, 645 N.E.2d 601, 604 (Ind. 1994). And a breach of the fiduciary
standard is “constructive fraud,” not actual fraud. To prove a breach of fiduciary duty, a
plaintiff must only show that he or she and the defendant had a fiduciary
relationship, that the defendant breached its fiduciary duty to the plaintiff,
and that this resulted in an injury to the plaintiff or a benefit to the
defendant. It is not necessary for the plaintiff to prove causation to prevail
on claims of certain breaches of fiduciary duty. It is the agent’s disloyalty, not any
resulting harm, which violates the fiduciary relationship. Comment b to section 874 of the RESTATEMENT
(SECOND) OF TORTS recognizes that a plaintiff may be entitled to
“restitutionary recovery,” to capture “profits that result to the fiduciary
from his breach of duty and to be the beneficiary of a constructive trust in
the profits.” In some circumstances, the plaintiff may recover “what the
fiduciary should have made in the prosecution of his duties.” RESTATEMENT
(SECOND) OF TORTS § 874 cmt. b (1979); see also 2 DAN B. DOBBS, THE LAW OF
REMEDIES 670 (2d ed. 1993) (noting that a fiduciary who wrongfully takes an
opportunity, if “treated as a fiduciary for the profits as well as for the
initial opportunity,” would “owe a duty to maximize their productiveness within
the limits of prudent management and might be liable for failing to do so”).

Hence, the role of
estoppel in fiduciary law is different in fiduciary relationships than in its
application to arms-length relationships in in which caveat emptor (even when aided by disclosure obligations under the
’33 Act and ’34 Act) plays a role. Mere
consent by a client in writing to a breach of the fiduciary obligation is not,
in itself, sufficient to create estoppel.
If this were the case, fiduciary obligations – even core obligations of
the fiduciary – would be easily subject to waiver. Instead, to create an estoppel situation, the
fiduciary is required to undertake a series of steps :

(1) Disclosure of all material facts to the
client must occur. [Even in arms-length relationships, a ratification or waiver
defense may fail if the customer proves that he did not have all the material
facts relating to the trade at issue. E.g.,
Davis v. Merrill Lynch, Pierce, Fenner & Smith, Inc., 906 F.2d 1206,
1213 (8th Cir. 1990); Huppman v. Tighe,
100 Md. App. 655, 642 A.2d 309, 314-315 (1994). In contrast, in fiduciary
relationships the failure to disclose material facts while seeking a release
has been held to be actionable, as fraudulent concealment. See, e.g., Pacelli Bros. Transp. v. Pacelli, 456 A.2d 325, 328
(Conn. 1982) (‘the intentional withholding of information for the purpose of
inducing action has been regarded ... as equivalent to a fraudulent
misrepresentation.’); Rosebud Sioux Tribe
v. Strain, 432 N.W. 2d 259, 263 (S.D. 1988) (‘The mere silence by one under
such a [fiduciary] duty to disclose is fraudulent concealment.’)” (Id.)]

(3) The disclosure must lead to the
client’s understanding – and the fiduciary must be aware of the client’s
capacity to understand, and match the extent and form of the disclosure to the
client’s knowledge base and cognitive abilities.

(4) The informed consent (which is not
coerced by the fiduciary in any manner)
of the client must be affirmatively secured (and silence is not
consent). [There must be no coercion for the informed consent to be effective.
The “voluntariness of an apparent consent to an unfair transaction could be a
lingering suspicion that generally, when entrustors consent to waive fiduciary
duties (especially if they do not receive value in return) the transformation
to a contract mode from a fiduciary mode was not fully achieved. Entrustors,
like all people, are not always quick to recognize role changes, and they may
continue to rely on their fiduciaries, even if warned not to do so.” Tamar
Frankel, Fiduciary Duties as Default Rules, 74 Or. L. Rev. 1209.]

and

(5) At all times, the transaction must be
substantively fair to the client – if an alternative exists which would result
in a more favorable outcome to the client, this would be a material fact which
would be required to be disclosed, and a client who truly understands the
situation would likely never gratuitously make a gift to the advisor where the
client would be, in essence, harmed. [In the absence of integrity and fairness
in a transaction between a fiduciary and the client or beneficiary, it will be
set aside or held invalid. Matter of
Gordon v. Bialystoker Center and Bikur Cholim, 45 N.Y. 2d 692, 698 (1978)
(2006 WL 3016952 at *29). As stated by
Professor Frankel, “if the bargain is highly unfair and unreasonable, the
consent of the disadvantaged party is highly suspect. Experience demonstrates
that people rarely agree to terms that are unfair and unreasonable with respect
to their interests.” Frankel, Tamar, Fiduciary Duties as Default Rules, 74 Or.
L. Rev. 1209.]

It should also be
noted that attempts to waive core fiduciary duties of an advisor may violate
Section 215(a) of the Advisers Act. As stated by SEC Staff in its Jan. 2011
Study: “Advisers Act Section 215(a) voids any provision of a contract that
purports to waive compliance with any provision of the Advisers Act. The
Commission staff has taken the position that an adviser that includes any such
provision (such as a provision disclaiming liability for ordinary negligence or
a “hedge clause”) in a contract that makes the client believe that he or she
has given up legal rights and is foreclosed from a remedy that he or she might
otherwise either have at common law or under Commission statutes is void under
Advisers Act Section 215(a) and violates Advisers Act Sections 206(1) and (2).
The Commission staff has stated that the issue of whether an adviser that uses
a hedge clause would violate the Advisers Act turns on ‘the form and content of
the particular hedge clause (e.g., its accuracy), any oral or written
communications between the investment adviser and the client about the hedge
clause, and the particular circumstances of the client.’ The Commission has
brought enforcement actions against advisers alleging that the advisers
included hedge clauses that violated Advisers Act Sections 206(1) and (2) in
client contracts.” SEC Staff Study (Jan. 2011), p.43. [Citations omitted.]

[xxvi] Within the legal
community there has existed a long discussion relating to whether fiduciary
duties are “default rules” and contractual in nature, or whether certain core
fiduciary duties are non-waivable. We suggest that the answer lies in the
disparity of knowledge and ability of the fiduciary vis-à-vis the other party.
For example, in the law of partnerships and limited liability companies, the
partners or members are usually on relatively equal footing and hence can alter
many (but not all) of the fiduciary obligations they possess toward one
another. In contrast, stricter rules are imposed in attorney-client
relationships, in which attorneys are prohibited from entering into
transactions with clients unless the client is clearly advised to seek
independent legal counsel, and even then the business transaction must be
substantively fair to the client. See
ABA Model Rules of Professional Conduct 1.8(a), stating: Rule 1.8 Conflict Of
Interest: Current Clients: Specific Rules. (a) A lawyer shall not enter into a
business transaction with a client or knowingly acquire an ownership,
possessory, security or other pecuniary interest adverse to a client unless:
(1) the transaction and terms on which the lawyer acquires the interest are
fair and reasonable to the client and are fully disclosed and transmitted in
writing in a manner that can be reasonably understood by the client; (2) the
client is advised in writing of the desirability of seeking and is given a
reasonable opportunity to seek the advice of independent legal counsel on the
transaction; and (3) the client gives informed consent, in a writing signed by
the client, to the essential terms of the transaction and the lawyer's role in
the transaction, including whether the lawyer is representing the client in the
transaction.

We suggest to the
SEC that the “contractual nature” of fiduciary obligations is not yet accepted
by many parts of the legal community, and even if accepted in limited
circumstances the theory is wholly inapplicable to a fiduciary-client
relationship in which such a great disparity of knowledge exists, as exists in
the complex world of securities. Individual investors are simply unable to
effectively “bargain” for protection from fraud.

Academic research
exploring the nature of individual investors’ behavioral biases, as a
limitation on the efficacy of disclosure and consent, also strongly suggests
that client waivers of fiduciary duties are not effectively made. In a paper
exploring the limitations of disclosure on clients of stockbrokers, Professor
Robert Prentice explained several behavioral biases which combine to render
disclosures ineffective: (1) Bounded Rationality and Rational Ignorance; (2)
Overoptimism and Overconfidence; (3) The False Consensus Effect; (4)
Insensitivity to the Source of Information; (5) Oral Versus Written
Communications; (6) Anchoring; and (7) Other Heuristics and Biases. Moreover, as Professor Prentice observed: “Securities
professionals are well aware of this tendency of investors, even sophisticated
investors, and take advantage of it.” Robert Prentice, Whither Securities
Regulation? Some Behavioral Observations Regarding Proposals For Its Future, 51
Duke L.J. 1397 (available at http://www.law.duke.edu/shell/cite.pl?51+Duke+L.+J.+1397#H2N5). Much other academic research into the
behavioral biases faced by individual investors has been undertaken, in
demonstrating the substantial challenges faced by individual investors in
dealing with those providing financial advice in a conflict of interest
situation.

Financial advisors
also utilize clients’ behavioral biases to their own advantage, if not
restricted by appropriate rules of conduct. As stated by Professor Prentice,
“instead of leading investors away from their behavioral biases, financial
professionals may prey upon investors’ behavioral quirks … Having placed their
trust in their brokers, investors may give them substantial leeway, opening the
door to opportunistic behavior by brokers, who may steer investors toward poor
or inappropriate investments.”Id. See
also Stephen J. Choi and A.C. Pritchard, “Behavioral Economics and the SEC”
(2003), at p.18. Practice management consultants train financial and investment
advisors to take advantage of the behavioral biases of consumers. The
instruction involves actions to build a relationship of trust and confidence
with the client first, far before any discussion of the service to be provided
or the fees for such services. It is well known among marketing consultants
that once a relationship of trust and confidence is established, clients and
customers will agree to most anything in reliance upon the bond of trust which
has been formed.

In essence,
disclosure – while important - has limited efficacy in the delivery of
financial services to clients. As stated by Professor Ripken: “[E]ven if we could purge disclosure
documents of legaleze and make them easier to read, we are still faced with the
problem of cognitive and behavioral biases and constraints that prevent the
accurate processing of information and risk. As discussed previously,
information overload, excessive confidence in one’s own judgment, overoptimism,
and confirmation biases can undermine the effectiveness of disclosure in
communicating relevant information to investors. Disclosure may not protect investors
if these cognitive biases inhibit them from rationally incorporating the
disclosed information into their investment decisions. No matter how much we do to make disclosure
more meaningful and accessible to investors, it will still be difficult for people
to overcome their bounded rationality. The disclosure of more information alone
cannot cure investors of the psychological constraints that may lead them to
ignore or misuse the information. If investors are overloaded, more information
may simply make matters worse by causing investors to be distracted and miss
the most important aspects of the disclosure … The bottom line is that there is
‘doubt that disclosure is the optimal regulatory strategy if most investors
suffer from cognitive biases’ … While disclosure has its place in a
well-functioning securities market, the direct, substantive regulation of
conduct may be a more effective method of deterring fraudulent and unethical
practices.” Ripken, Susanna Kim, The Dangers and Drawbacks of the Disclosure
Antidote: Toward a More Substantive Approach to Securities Regulation. Baylor
Law Review, Vol. 58, No. 1, 2006; Chapman University Law Research Paper No.
2007-08. Available at SSRN: http://ssrn.com/abstract=936528.

Lastly, we must ask,
what individual investor would ever permit a fiduciary to contract away its
fiduciary obligations? Any truly knowledgeable individual investor would
recognize the immense protections provided by the fiduciary standard of conduct,
and would not permit the financial or investment adviser to contract out of
fiduciary obligations.

See also discussion in the prior endnote regarding
waiver and estoppel and its limited application to fiduciaries.

[xxvii] We note that it is
suspect whether the rendering of any information regarding investment
securities should be considered given in an arms-length relationship, but
rather should be given only in a fiduciary relationship. The U.S. Supreme Court
stated that there is a “growing recognition by common-law courts that the
doctrines of fraud and deceit which developed around transactions involving
land and other tangible items of wealth are ill-suited to the sale of such
intangibles as advice and securities, and that, accordingly, the doctrines must
be adapted to the merchandise in issue.” Capital
Gains, 375 U.S. at 194.

However, we do not suggest that the SEC
proceed so far. Rather, the SEC should permit direct sales of securities, and
sales of securities through intermediaries, provided that the seller not hold
out in any fashion as an advisor, and provided further that only a description
of the product is provided; any suggestion by a seller that the security is
right “for you” (i.e., for the
client) crosses the threshold of advice, and hence would be subject to the
fiduciary standard of conduct, for – as the Supreme Court has stated –
standards covering arms-length transactions are ill-suited to the delivery of
advice regarding securities. It should be noted that, in adopting the Advisers
Act, “Congress codified the common law 'remedially' as the courts had adapted
it to the prevention of fraudulent securities transactions by fiduciaries, not
'technically' as it has traditionally been applied in damage suits between
parties to arm's-length transactions involving land and ordinary chattels.” Capital Gains, 375 U.S. at 195.

[xxviii] Common among
insurance agents and brokers are two disturbing practices. First, they hold
themselves out as "advisors." Second, they all talk of the importance
of gaining the trust and confidence of the clients.

In its 1940 Annual
Report, the U.S. Securities and Exchange Commission noted: “If the transaction
is in reality an arm's-length transaction between the securities house and its
customer, then the securities house is not subject' to 'fiduciary duty.
However, the necessity for a transaction to be really at arm's-length in order
to escape fiduciary obligations, has been well stated by the United States.
Court of Appeals for the District of Columbia in a recently decided case:
‘[T]he old line should be held fast which marks off the obligation of
confidence and conscience from the temptation induced by self-interest. He who would deal at arm's length must stand
at arm's length. And he must do so
openly as an adversary, not disguised as confidant and protector. He cannot commingle his trusteeship with
merchandizing on his own account…’” Seventh Annual Report of the Securities and
Exchange Commission, Fiscal Year Ended June 30, 1941, at p. 158, citing Earll v. Picken (1940) 113 F. 2d
150.

In 1963, in its
Special Report on the securities industry, the SEC also noted that it “has held
that where a relationship of trust and confidence has been developed between a
broker-dealer and his customer so that the customer relies on his advice, a
fiduciary relationship exists, imposing a particular duty to act in the
customer’s best interests and to disclose any interest the broker-dealer
may have in transactions he effects for
his customer … [BD advertising] may create an atmosphere of trust and
confidence, encouraging full reliance on broker-dealers and their registered
representatives as professional advisers in situations where such reliance is
not merited, and obscuring the merchandising aspects of the retail securities
business … Where the relationship between the customer and broker is such that
the former relies in whole or in part on the advice and recommendations of the
latter, the salesman is, in effect, an investment adviser, and some of the
aspects of a fiduciary relationship arise between the parties.” 1963 SEC
Special Study.

There exists a
fundamental truth that “to provide biased advice, with the aura of advice in
the customer’s best interest, is fraud.” [Angel, James J. and McCabe, Douglas
M., Ethical Standards for Stockbrokers: Fiduciary or Suitability? (September
30, 2010), at p.23. Available at SSRN: http://ssrn.com/abstract=1686756.] Those who use titles and designations, such
as "financial advisor" or "CFP" or "ChFC" or
"financial consultant" - and who then don't adhere to the fiduciary
obligations attendant to such representations - in essence commit intentional
misrepresentation. Let's call it for what it is - "fraud" - plain and
simple. We should not live in a society in which pervasive fraud - i.e.,
holding out as trusted advisors, and then failing to adhere to the duties
imposed from the resulting fiduciary relationship - is continued to be
permitted to occur. There is a simple maxim expressed by a state securities
commissioner nearly a decade ago at a conference, and repeated many times
since: "Do not lie, cheat or steal. Say what you do. And do what you
say."

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Ron A. Rhoades, JD, CFP® sailed across the Atlantic on a tall ship, performed in theme parks and road shows in Europe and America as a Disney character, rowed on a championship crew team, marched in the Macy’s Thanksgiving Day Parade, marched in competition with a state-champion rifle drill team, undertook a solo one-week trip into the Everglades, escorted numerous celebrities around Central Florida, performed as a “Tin Man” at a mountaintop theme park called “The Land of Oz” in Beech Mountain, NC, and served as a stage manager and talent scheduling coordinator for entertainment productions at Walt Disney World. And then he graduated college.

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Ron A. Rhoades, JD, CFP® became Program Director for the Financial Planning Program (B.S. Finance, Financial Planning Track) at Western Kentucky University's Gordon Ford School of Business in July 2015. He provides instruction to highly motivated, exceptional undergraduates students in such courses as Applied Investments, Retirement Planning, Estate Planning, and the Personal Financial Planning Capstone course. He has previously taught courses in Insurance & Risk Management, Employee Benefits, Money & Banking, Advanced Investments, and Business Law I and II.

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